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Jeremy Owens: Hello and welcome to On Watch by MarketWatch. I’m Jeremy Owens. Today we want to introduce you to some of the most influential people in the world when it comes to markets and your money. Once a year, MarketWatch produces The MarketWatch 50, which details the people who determine how money moves in the world and tells you how they do it, from legendary chief executives like Jensen Huang and Elon Musk to Nykia Wright, the CEO of the National Association of Realtors.
Today we’re talking to two of The MarketWatch 50, Claudia Sahm, an economist whose name graces an important recession indicator, and Meb Faber, who has developed an exchange traded fund that regularly beats the S&P 500’s gains even in a bull market. Plus, we’ll take a quick look at the news stories we’re watching right now and how they’ll affect your wallet. First, let’s talk with the creator of the Sahm Rule.
In 2019, economist Claudia Sahm proposed a recession indicator that would make her a household name. You’ve probably heard of it. It’s called the Sahm Rule, and it’s been everywhere this year. We’ll get to why in a second. But the basic principle is this, when the unemployment rate rises quickly, we are in a recession. And Sahm’s intention behind this rule was to create a simple trigger to shape economic policy.
Specifically, if this rule triggers, it’s time to start sending out stimulus checks. Now, Sahm had studied decades of economic data to come to this conclusion. And since 1970, the Sahm Rule had been almost perfect in labeling a recession. But this July, as Claudia Sahm waited to be on live TV, the rule broke, meaning that it triggered and there was no recession. It was one of the most dramatic economic moments in a year full of them. So we asked Sahm to join us to talk about the rule, that moment, and much more.
Claudia Sahm: In the 1950s and 1960s, there were two times where the Sahm Rule triggered. It came back down. There was no recession, but the recession came six months later.
Jeremy Owens: And was that in a similar place where we are now? Because the jump here was from an extremely low unemployment rate to still a pretty dang good unemployment rate. Is that something that’s happened before?
Claudia Sahm: Yeah. Now you have to go back to the 1960s to find the Sahm Rule triggering off as low unemployment rates as we’ve had. But if you go back to the 1960s, you can find examples where it triggered and there was a recession. And up until this July, it had triggered typically about four months into a recession.
When we got the July numbers, the unemployment rate jumped two-tenths to 4.3, just barely, and the payroll numbers were weak. So then there was a lot of concern bordering on panic that things were really deteriorating. But I mean, I’d been writing for two years, this thing could break. And oh my goodness, I’m so happy it broke.
Jeremy Owens: That’s crazy for me to hear, Claudia, because it is a rule with your name on it. I’m sure you take pride in developing this, but you’re also sitting there hoping it doesn’t come true this time.
Claudia Sahm: There are days when it feels like a curse to have my name on this thing. I didn’t ask for it, and I had no idea what that was going to involve. Explaining, and I love to do that. Using it, love to do that. Defending my honor or whatever, that’s not fun.
Jeremy Owens: I mean, I have to say, Claudia, I’m not an economic historian. It’s really hard for me to see an economy that is acting so strangely as it has in the past four years with the pandemic and then the post-pandemic. And it’s a very important thing to try to explain that to people. That’s what we try to do on this program.
I’m sure that’s what you’re trying to do as an economist. But at some point, don’t you just have to throw your hands up and say, “We don’t really know. It just seems like this is a very confusing time when it’s hard to explain to people exactly what’s going on.”
Claudia Sahm: When the Sahm Rule triggered and I’m sitting there on Bloomberg video on, like I said right away, this is not a recession. This thing broke, and there’s reasons because of the labor force participation and immigration is pushing up the unemployment, blah, blah, blah. But also it’s like, look around, GDP is growing. Income is growing. Consumer spending is growing. All these other indicators, it’s like that’s not a recession.
Jeremy Owens: And that is what you’re talking about, some of these things are at odds, right? The consumer spending is so good, but the labor market has come down. And inflation has come down, but it’s still above the target. And trying to put all these together so that people can get a full feel for the economy is nearly impossible, especially as some of them conflict.
Claudia Sahm: And it’s shifted over time in this recovery. This has been a wild ride on so many dimensions, and I try to do this often with my writing. What’s the solution? When is this going to turn around? And a big picture takeaway is even if layoffs are low, the hiring rate is extremely important for how the unemployment rate changes. If it stays that low, not every job day is going to be like the last one in terms of good. We’re going to see the unemployment rate drift back up some, in all likelihood.
Jeremy Owens: From what I’ve seen, there’s not much hiring going on, but there’s not much firing.
Claudia Sahm: Yeah, no, the layoff rate is near its all time low. This is unusual, and it’s also hard to wrap your head around. Something is going to give, and I don’t know the right answer. I like to throw stuff out and discuss. I think there’s an uncertainty angle. Businesses don’t know is the Fed going to cut more? What are interest rates going to be next year? So it’s kind of like, do we expand?
Do we not? We have this election thing coming up in November and there’s an uncertainty about regulatory policy, taxes. And once we get past that, I think it’ll slowly dissipate. Because I mean, we’re not going to know everything about fiscal policy even when we know who’s in the White House, who’s in the Senate, and the House. And then I talked about the Fed’s cut interest rates, which I am all for, and I said they were going to do 50.
I was on CNBC when they did it. And I’m like, “Yes!” I would’ve looked really stupid because there weren’t many economists. There were some, but most economists were like, “Ooh, the Fed can only go 25.”
Jeremy Owens: And I want to talk about your time at the Fed, which is the basis for your creation of this policy. You were there in 2007. That must have been one of the hardest times ever to work at the Fed during the Great Recession and trying to figure out what to do in a situation where there’s not much you really can do.
Claudia Sahm: Yeah. I mean, I would go into the forecast meeting, and I’m the consumer spending person. I’d come with my forecast, and my forecast then were pretty bleak. I’d come in and be like, “We need to cut a half a percentage point.” And they’d be like, “Okay, we’ll give you half of that.” And the one officer, and I really liked him.
He was really, really smart and I’ve learned a lot from him. He was like, “Claudia, the economy is going to recover. It always recovers.” And I was like, I’m sure you’re right, but I ain’t seeing it. And that was one where I was right and it hurt, because the other thing I do that is really not something I would recommend is I have emotional reactions to data.
Jeremy Owens: I have to say, Claudia, that I’m all for more empathy in economics. I mean, it can feel like it’s too much of a cold, hard science when it’s something that affects everybody in every way and that everybody affects in what they do. I just wanted to jump in here and say we’re going to get a little more emotional now. I asked Sahm about her goals moving forward, personal and otherwise, and she shared some pretty personal stuff. It’s a bit of a departure from economic indicators, but it was really my favorite part of the interview, so I’m excited for you to hear it.
Claudia Sahm: Two weeks ago, I was diagnosed with inflammatory breast cancer, this triple negative.
Jeremy Owens: Very sorry to hear that.
Claudia Sahm: And last month, September, was really hard because I did a lot of tests and the diagnosis bounced around. I t was tough some days to care about the Fed, but that’s my job. But my goal right now is to beat this and see my kids grow up. And in terms of career, so 2020, I wrote a post that’s called Economics is a disgrace. It’s by far my most read anything. But I went through and talked about the racism, the sexism, the elitism, the how grad students were treated, mental health.
I do a lot of mentoring, particularly with PhD students. And the vast majority, not all of them, are women or people of color. And so I got mad because I had people keep coming to me who economists had broken. Like some pretty serious stuff. I had to call the police one time to go find one of the women. So I shared some of my experiences. I shared some of the people I had met, and I didn’t name any of them, but I went through and I named all the men.
The attorney I got later, because I lost my job over it, referred to it as my fire and brimstone post. It’s really out there. I don’t regret it. There’s a few things that came after it I do.
Jeremy Owens: But it’s very hard to know what to do in that situation. When you get tossed into the maelstrom, you have to act in whatever way is necessary.
Claudia Sahm: Yeah, and I tend to be Mama Bear. Husband is like, “You have a serious condition right now. You need to be selfish. No more of this Mama Bear bear stuff.” And he’s also like, “You need to keep your job.” I’m like, yeah, yeah, I agree.
Jeremy Owens: So it sounds like your real goal for your time in economics is to make the study a more palatable place for people like yourself and not be afraid to speak out and tell people exactly how that needs to happen.
Claudia Sahm: And I’ve always said, all they want to do with diversity and inclusion is make space for the people that come after and come from the sidelines. The world does not need a mini me. One of me is more than enough, but I want them to have the space.
Jeremy Owens: Claudia, you’re doing a great job of explaining the current moment in the economy to people. And at the same time, you’re trying to change the field of economics to be more inclusive. So we want to thank you so much for all of that and for taking the time to talk with us today.
Claudia Sahm: Thank you.
Jeremy Owens: We’re going to take a quick break. Coming up, Meb Faber. Stay with us. Welcome back to On Watch by MarketWatch. Before the break, we talked to economist Claudia Sahm. Now we turn to Meb Faber. Faber is the co-founder of Cambria Investments, which put together an ETF, or exchange-traded fund, that caught the fascination of a lot of us here at MarketWatch, including Phil van Doorn, our investing columnist.
Faber’s ETF has become one of the most successful of the past five years, according to FactSet, and has a coveted five-star rating for Morningstar. And amazingly, they’ve done it without including the big tech star stocks that have driven overall returns in the past few years. I wanted to know how he did it. So we caught him up to talk about the ethos behind that ETF and where he sees the market headed.
Well, Meb, you’re on The MarketWatch 50 because of your Cambria Shareholder Yield ETF. It’s fascinating and so is the way it’s put together, and we’d love for you to talk a little bit about that.
Meb Faber: Sure. This idea goes back 100 years. Value investing isn’t something we invented, but certainly to the time of Ben Graham and popularized by Warren Buffett and others. And this idea of shareholder yield really had an inflection point starting in the 1990s where US companies started buying back more stock.
Now, they’ve always bought back stock. There’s books from the ’50s talking about share repurchases. But if you think about the basics, there’s only five ways that a company can spend money. They can do the first part, which is the one everyone talks about and is this exciting, sexy part, which is reinvesting in the business.
Jeremy Owens: Research and development, all that kind of stuff.
Meb Faber: Exactly. And that’s what CNBC and others spend 99% of the time talking about because it’s fun.
Jeremy Owens: MarketWatch as well. Yeah, yeah. We’ll talk about a big stock buyback, but we like to talk about new products.
Meb Faber: Right. So think about Apple’s new iPhone launch or Nvidia’s new chips. Second is the CEOs can go empire build, namely through mergers and acquisitions. And then the next three are really how the CEO can distribute cash to shareholders or manage the cash of the business. The first, if they have debt, they can pay down the debt. And the last two are pretty familiar as a passive income idea.
You have cash dividends, which everyone’s familiar with, sitting on the beach, drinking pina coladas, letting that sweet, sweet dividend income roll in, but also stock buybacks. And buybacks have a little more of a nuanced way of returning cash to shareholders, but really finance 101, that’s the menu. Those are the only five choices. So if you think about cash, dividends and buybacks, what the fund does is combine the two.
This fund says, hey, since the ’90s, stock buybacks have outpaced dividends pretty much every year. So that means if you’re a dividend or an income investor, you’re ignoring over half of how companies pay back their cash to investors. And so we look at an aggregate holistic number, cash dividends plus net stock buybacks, and net is really important.
Jeremy Owens: Net is extremely important, I wanted to bring that up, a smutty who covered tech stocks for many years. They are buying back stocks in huge numbers now, but they’re also issuing stock to their employees in gigantic numbers. And it’s this snaking its own tail thing where you’re issuing and you’re combating that by buying back, but you’re not actually reducing the share count, which is what should make shares more valuable for those who hold them.
Meb Faber: It’s a hugely important point that most overlook. And one of the best ways to illustrate this is let’s say you go buy this really good-looking 4% yielding dividend stock. But it turns out that the CEO through stock-based compensation and usually only to the C-suite is paying out or diluting 5% per year of the market cap in new shares issued. And as you mentioned, it’s been a huge issue in the tech world the past 10 years.
In that scenario, 4% dividend yield, 5% share issuance, you have a negative yielding stock, and those exist. And so part of the beauty of shareholder yield is not just the buyback component, but it’s actually avoiding the share issuers as well. The late great Charlie Munger always said, look for the companies that are the cannibals, meaning their share count is going down. They’re eating themselves, and you’re getting to own more and more the company the longer you are a share shareholder.
Jeremy Owens: And that leads to this ETF not really holding big tech. We’ve talked a lot about the S&P 500 and how top-heavy it is and how the gains of the past couple of years are so reliant on Nvidia and Microsoft and the rest of big tech. And those companies don’t really show up in your ETF. The top five holdings as of October 2nd were Adtalem Global Education, REV Group, CNX Resources, Jefferies Financial, and PROG Holdings. These are mid-cap stocks a lot of people just don’t know exists, but they’ve worked for this ETF.
Meb Faber: I don’t even know what those companies are and I manage the fund. Just kidding, listeners. I’m a quant, so we’re systematic. But that’s the beauty of being a rules-based investor is you get to distant your emotions from the actual process. And you mentioned a good point on sectors. Look, tech is so much fun to watch. I’m a huge tech optimist. But over the years, the sectors wax and wane.
And a good example we always give is energy. At one point, energy was almost a third of the S&P 500. And a couple years ago, it bottomed out at 2% of the S&P. And I think it’s up into the single digits like four or 5% now, but it’s not a third anymore. And so same thing with tech. These sectors wax and wane as far as importance in size. But this strategy, it looks at all US stocks.
So it’s got the whole menu out there, and it starts with, okay, let’s select from some of the top shareholder yield, meaning aggregate cash dividend and net buybacks, which usually gives you a double-digit yield. So let that sink in for a minute. The S&P’s yield is sub two. If you’re a high-yielder, you may get three or four. This is usually over 10. Now, in the US, that’s largely buyback driven.
So it’s a culture of CEOs willing to move hard into buybacks. We run foreign and emerging market versions of this strategy, and those tend to have much more of a dividend focus. But sticking in the US in a minute, it’s a go anywhere. So it mostly finds the value today in mid-caps. There’s some small and large. I mean, we owned Apple from 2013 to 2020.
Jeremy Owens: I mean, Apple does gigantic buybacks. It really started back then. And those are actually reducing the share count, even though there is a good amount of share-based compensation going on down in Cupertino.
Meb Faber: The challenge is is that we also on the next step use valuation, because you want to be buying stocks that are trading below intrinsic value. So we use a bunch of different valuation indicators and we sprinkle some quality in there too. So we don’t want these companies to just be over-leverage and buying back shares with a bunch of debt.
And so on average, we want them to be cheaper, which in the US kicks out quite a few of the tech stocks. Because some of them today, they’re at 50 or 100 times revenue. Not earnings, listeners. Revenue. And so it kicks out a lot of those names. And for Apple, that was the same thing. It just got to be too expensive. And so you end up with a portfolio that has a significant valuation discount to the overall market.
Jeremy Owens: And this is something we talk about a lot on this program is just dump it into the S&P 500 Index Funds, maybe getting some bonds and some other things to develop your portfolio. But this is a way to diversify beyond the S&P 500. A lot of these mid-cap stocks that are in your ETF are not necessarily S&P 500 companies. And this does offer a different thing.
And this is the thing I think investors should be looking for if they are worried about the concentration of the S&P 500 within these half dozen big tech companies, and you’re looking for ways to diversify, which is the purpose of buying the S&P 500 is to diversify your risk. Well, how do you do that when the most popular investment is extremely top-heavy? You look for little investments like this you could sprinkle throughout.
Meb Faber: One of our favorite studies that we talk about in the new edition of our shareholder yield book, which should be out this month, is a paper that Robeco put out, a European asset manager, called Conservative Investing, and they looked at a shareholder yield similar strategy back to the 1800s. And what you find with this type of strategy, which is a value strategy, you got to have good cash flows to be able to pay out big chunks to investors that keeps the CEOs honest.
And so usually it’s a good governance measure. But they looked at this back to the 1800s and they found that often these types of strategies may not keep up in the romping stomping bull markets. Because almost nothing does. We wrote a paper recently called The Bear Market in Diversification, where we said, look, the S&P has creamed everything since 2009. It’s done 15% compounded for 15 years. That’s only happened four times in history.
And the other times all have names, right? It’s the Roaring Twenties, NIFTY 50, Internet Bubble, and then whatever we’re calling today. So pat yourself on the back, it’s been good times. But so this type of strategy usually is not going to beat the S&P when the market cap index is screaming. But when broad market is going sideways or not doing much, or particularly going down, traditionally, a value and quality strategy does a much better job in the deep bear markets as well.
As you mentioned, we think it’s a good to diversifier. It’s good to hold all the time, of course, but particularly now, the value spread of this strategy versus the overall market, it always has traded at a discount. But that discount has widened over the past four years, which is an exciting time. A lot of the big quants will say, this is one of the best opportunities they’ve ever seen for a value strategy versus the expensive or index broad-based indices.
Jeremy Owens: Well, Meb, what I hear from your excitement about how cheap this is is something you said in your profile with Phil for The MarketWatch 50, which is that this is the best time ever to be an investor. For investors who feel you and want to hear more from you, how can people keep up with you?
Meb Faber: Not too many Mebs running around, so the good news is that’s a pretty unique name, but we publish over 500 podcasts on The Meb Faber Show. We got a blog, MebFaber.com. My day job, you can find info at CambriaFunds.com. You can watch me behave on Twitter or X elsewhere. We’re always interacting with investors, and most of our books and white papers you can download for free on any of those websites as well.
Jeremy Owens: Okay, great, Meb. Thanks so much for joining us and we’ll look to talk to you again.
Meb Faber: It was a blast. Thanks for having me.
Jeremy Owens: Before we go, it’s time for what we are watching a look at the news you need to know for the rest of the week and beyond. We hope you enjoyed today’s visits with two of The MarketWatch 50. You can head to MarketWatch.com for full profiles of Sahm and Faber, and you can check out our coverage of others who made the list, from previous guest Kyla Scanlon to venture capitalist Mark Andreessen.
Earnings season is upon us with banks so far reporting decent results as we wait for the big tech stalwarts that will determine the course of the market. We’ll start receiving those as Netflix reports this afternoon and hit a news stride next week when Tesla reports on Wednesday after a Robotaxi event that was quite light on detail. Joining Tesla on Wednesday will be a beleaguered aircraft giant, Boeing, which pre-announced disappointing results last week.
Keep an eye on MarketWatch for our read-throughs on all of these important reports. With the presidential election getting close, every report that details how Americans are experiencing this economy while getting ready to vote will be examined very closely. There will be a raft of such data today, including retail sales for September and information on industrial production and manufacturing.
Keep an eye out for the MarketWatch econ team’s thoughts on those reports, and we’ll be back next week to talk to you about how the election could affect your wallet. And that’s it for this episode. Thanks to Claudia Sahm and Meb Faber. For more on The MarketWatch 50, read all the profiles at MarketWatch.com. You can subscribe to the show wherever you get podcasts, and please do. If you like what you heard, please leave us a rating or review.
It really helps others discover the show. And let us know what you want to hear from us. You can reach us at OnWatch@MarketWatch.com. The show is hosted by me, Jeremy Owens, and produced by Alexis Moore. Isaac Gaines mixed this episode. Melissa Haggerty is the executive producer. We’ll be back next week. And until then, we’ll be watching.
